Hot Off the Web
One of the best articles this week was “The $1,000,000 retirement fund: how to get there from here” where Jonathan Clements explains why it’s not as difficult as it seems for a new college grad to achieve the $1,000,000 portfolio. Saving 12% of her pretax income and earning 6%/ year, the tipping point comes when her by the time she reaches say $80,000 salary and accumulated savings of $160,000 (twice the salary). The following year her $9,600 saved is matched by another $9,600 of investment income! Continuing the same way for 10 years she will have accumulated $418,000. The biggest challenge is to reach the tipping point of twice the salary, which can take 12-15 years! (Could be faster at 15-20% saving rate)
Ambachtsheer and Bauer in “Losing ground” show the impact of (mutual fund) expense ratios on pension adequacy for non-pension plan members. Specifically, assume that a worker earns real $50,000 and saves real $10,000 annually for 40 years. Pre-retirement return is assumed at real 3% and at retirement he buys a 20 year annuity with underlying real rate of 1.5%. Then at expense ratio of 0.4% (typical rate incurred by a pension fund) versus 1.5%, 3% or 5% effective expense ratio incurred by the typical individual investor, the resulting income replacement rate drops from 82% to 64%, 46% and 32%, respectively. They conclude with the public policy implication that the government must take a more activist role to protect Canadian investors from the inevitable outcome of the current high headwind caveat emptor model.
Still on mutual fund fees, Rob Carrick of the Globe and Mail’s “Time to get ornery over fund fees” reminds his readers that Canadian mutual fund fees are still the highest in the world and investors need to get activist and demand more than the recent minuscule fee reductions. Together with the ETF options available today, there is no reason why suitable pressure on fund fees should not result in significant fee reduction. People need to start voting with their feet, if necessary.
Chuck Jaffe in “Too close for comfort: using friends or family for financial advisers is ill-advised” advises against using family and friends as financial advisers as the risk of damaged relationships increases dramatically and what’s worse is that there is even greater opportunity for fraud, since there is an increased level of implied trust in the relationship. Specifically, he advises against writing the investment check to “Uncle Leo”; instead write it to the brokerage firm who is the actual custodian of the account. Good advice!
For the typical investor his personal use real estate can represent typically 50% of his net worth. Adding more real estate in the investment portfolio can result in a significant overweighting in that asset class. In “A real estate investment plan” Richard Croft suggests that you must ask the following question, “Is your home a place to live or is it an investment that will at some point be sold to capitalize your retirement years?” If it is the latter (and that is really what your plan is!?!), then real estate is already part of your portfolio and you may not wish to further add real estate to the portfolio.
The New York Times’ “A contrarian on retirement says wait” quotes Laurence Kotlikoff’s advice on when to start taking Social Security and he comes down squarely on not jumping on it at the earliest opportunity (subject to some special circumstance, e.g. poor health situation). I agree with him because, if you don’t need the money early in retirement, it can become a larger source of longevity insurance later in life (that’s otherwise expensive to buy today -e.g. annuities).
In Globe and Mail’s “The case for blending passive, active indexing” Rob Carrick reviews the differences between ETFs based on classical market cap weighted indexes and the new fundamentals-based indexes, and points out that the proof of the pudding, the performance comparisons are not yet valid since track records a very short for the new approach; nevertheless given the early apparent success of fundamental indexes, he comes down squarely on the fence and suggests using a mix of the two approaches. The experts continue to debate the issue, and while I haven’t adjusted my portfolio, I am inclined to agree as well that fundamental indexes may have advantages, it as would have been demonstrated during the tech bubble when overvalued equities led to overweighting in technology for market cap weighted indexes.
In “Move over ETFs, as ETNs hit the scene” John Spence of the WSJ explains the differences between ETFs and the new kid on the block ETNs. In ETFs you buy a piece of a portfolio, whereas in ETNs you get the ETN sponsor’s promise to deliver the return associated with the fund’s objectives (e.g. currency return for his example) Thus with ETNs the investor takes on counterparty risk. However there may be more favorable tax implications with ETNs allowing returns to be treated as capital gains, rather than interest.